Q&A with Dominic J. De Simone and David A. Barksdale: Down Markets Create Excellent Buying Opportunities

David A. Barksdale and Dominic J. De Simone are partners in the Real Estate Department of Ballard Spahr Andrews & Ingersoll LLP and co-heads of the firm’s Distressed Real Estate Initiative. De Simone practices general real estate law, with extensive real estate finance experience on behalf of both lenders and borrowers involving acquisitions, construction, syndicated, leasehold mortgage, securitized and mezzanine loan transactions, sale-leaseback and bond financing transactions. Barksdale focuses his practice on real estate development, finance and construction, and secured finance. Barksdale (pictured first from top) and De Simone (pictured second from top) updated MHN’s Online News Editor Anuradha Kher about distressed real estate in Las Vegas, strategies to transform distressed condos and major challenges facing multifamily developers in the distressed housing market.MHN: How long ago did Ballard form the distressed real estate team? Why did the company feel the need to do that?   De Simone: Ballard Spahr always has had transactional, bankruptcy, and tax lawyers experienced in all aspects of real estate development and finance. In the late ’80s and early ’90s, the firm organized a large group of attorneys from a variety of practices and disciplines to form a workout practice to address the savings and loan crisis and related problems of those times. However, for the last 10 or more years, there has not been much of a need on the part of our lender or developer clients for this type of service in the context of a distressed real estate project, given the prolonged bull market in real estate. Due to recent economic conditions and changing client needs, we made the decision earlier this year to more actively deploy and market, on a national basis, our experience as it relates specifically to distressed real estate transactions. Through this initiative, we hope to better serve those clients in need of this service while letting other clients and non-clients alike know that we have this extensive, national capability. MHN: How distressed is the Las Vegas market?  Barksdale: Las Vegas is currently experiencing a record rate of foreclosures for all housing types, including condominiums, townhomes and single-family and resulting to a large extent from heavy speculative buying activity combined with the substantial use of sub-prime financing. The increase in the supply of housing units with fewer available buyers, caused in part by tightening lending standards, has led to a dramatic decline in prices. This deterioration in the market has put pressure on high-rise condominium and mixed-use projects in particular. Some analysts, however, believe that the Las Vegas market may recover sooner than other hard-hit markets, such as Phoenix and south Florida, as the completion and opening of new, and the expansion of existing, casino hotel projects expected to occur in 2009 and 2010 create new jobs and continue to drive population growth.MHN: How many distressed properties are you working on every month of late? Are they mostly multifamily or single-family homes or both?  De Simone: Over the past several months, we have become actively involved in an increasing number of distressed real estate matters each month. Many of these deals have involved high-rise condominium developments and single-family homes. Also, we have been asked to advise clients on new deals in order to structure transactions in a way to help avoid future problems.MHN: What are the business operational and legal strategies to transform distressed condos into high-performing investments? Barksdale: Unfortunately, given declining prices and excess inventories, the challenge in addressing distressed condominiums is usually minimizing losses, not transforming them into high-performing investments. The options depend on who controls the situation; whether the parties — the developer, lender, contractors, unit buyers — are willing and able to cooperate; whether the original developer is still in place, and how far along the project is in the sales process. Decisions must be made as to whether the project can be remarketed as a condominium, or whether it should be repositioned as, for example, a rental or mixed-use project. Those decisions will also be influenced and, at times, constrained by the various local, state and federal laws that apply to condominiums, as well as by the applicable condominium documents and potential declarant obligations and liabilities. MHN: What is the role of servicing and special servicing for distressed loans? Can you define servicing and special servicing?  De Simone: Generally, the master servicer handles loan administration (i.e., payment collection, escrow administration and loan monitoring) for performing loans while the special servicer has primary responsibility for nonperforming loans on behalf of the holder of the loan, namely, the securitization trust.  Once a loan has suffered a material adverse event, the master servicer transfers the loan to the special servicer, who has the duty of maximizing recovery for the benefit of all certificate holders. Basically, the special servicer has the duty to collect, for the trust, as much as possible on a net present value basis without regard to the position of the individual certificate holders. The special servicer achieves this goal by considering alternative workout structures such as foreclosure, discounted payoffs, forbearance arrangements, deed in lieu of foreclosure, note sales, and loan document modifications.MHN: What are the major challenges developers are facing in the distressed market?  De Simone: This often depends on the type and location of the project. Generally, arriving at a price or value acceptable to all of the parties is very challenging due to the difficulty in determining the extent of the problems and predicting how long it will take for a project to get back on track. In the case of a for-sale residential project, for instance, determining the right sales or absorption rate for underwriting purposes can be very difficult, if not impossible in some markets. Also, for a failed condominium deal, determining the extent of liabilities that a successor to the developer/declarant may be assuming can be very challenging and, for obvious reasons, risky. Barksdale: In addition, and this affects almost all property types, obtaining debt financing to acquire or refinance a distressed project is very difficult. Unfortunately, none of these challenges is expected to get any easier in the months ahead.  MHN: Do you think the worst is over or is yet to come? De Simone: Unfortunately, what we have been seeing in all of our 12 offices throughout the country is that things may still get worse, in many respects, before they get better. The combination of the overall economic environment, declining consumer confidence, the lack of debt financing and uncertainty about the future is weighing on real estate deals of all types with no indication that things will be improving in the near future. That being said, developers with good sources of capital and a sound balance sheet are better able to finance and construct their projects while projects meeting the old real estate adage of “location, location and location” continue to perform well in most markets. In addition, there are still areas of positive activity that we are involved in such as resort and timeshare development, university and medical center development, and infrastructure projects.Barksdale: In addition, down markets create excellent buying opportunities, both for distressed debt and distressed projects, for clients who are properly positioned to take advantage of these options. Identifying such opportunities and assisting clients in evaluating and structuring acquisitions, financings and development plans, in both a restructuring and bankruptcy context, is part of our mission.